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Tipping point reached in financial markets

30 Apr 2007

With the financial as well as social consequences of environmental inaction better understood than ever before, public opinion of renewable energy has reached a tipping point. A consensus is forming in favour of concerted action and that the capital markets will play a key role in the battle against global warming and the promotion of renewable energy.

Groundbreaking, bold and ambitious" was how UK Prime Minister Tony Blair described the agreement reached at March’s two-day EU Climate Change and Energy Summit.

At the Brussels summit, the 27-member Union agreed to cut its greenhouse gas emissions by 20% by 2020 compared with 1990’s levels, with a pledge to increase the target to 30% if other nations declare similar ambitions. Sub-targets agreed in Brussels in March included a requirement that 10% of vehicle fuel be accounted for by biofuels by 2020.

Soon after the Brussels summit, the UK upped the ante in the green stakes with Blair intensifying the rhetoric when he described as "revolutionary" the UK’s draft Climate Change bill. This targets a 60% cut in Britain’s carbon emissions by 2050, with an interim objective of a reduction of between 26% and 32% in 2020.

It sounded noble and well-meaning enough, although others had slightly different ways of describing both Britain’s initiative and the EU accord that preceded it.

To many environmentalists, the Brussels talks were disappointing and controversial because they bowed to the demands of the French, who insisted on categorising nuclear power as a renewable source of energy. That was scarcely a surprise, given that 88% of the electricity produced by Electricité de France comes from its nuclear power plants, which emit no carbon dioxide, although EdF itself does not describe nuclear energy as a renewable fuel.

Nevertheless, a degree of consensus is building on the central dilemma, which is that the energy policies that have fuelled
global industrialisation over the last century are no longer sustainable.

"Concerns over the environment may not be a new phenomenon, but the last 12 months has seen a surge in eco-awareness globally," notes a recent ABN Amro report entitled ‘Eco Logic’. "With the financial as well as social consequences of inaction now better understood, it appears that public opinion has reached a tipping point. A consensus is forming in favour of concerted policy action."

Numerous apocalyptic media features have speculated on how catastrophic the consequences of this inaction may be. One of the more sensational of those appeared in the UK’s Sunday Times in March. With a rise of six degrees in global warming, this warned that "life on earth ends with apocalyptic storms, flash floods, hydrogen sulphide gas and methane fireballs racing across the globe with the power of atomic bombs; only fungi survive."

Schizophrenic governments

In spite of warnings of this kind, governments continue to have an attitude to environmental stewardship that on the face of it is perplexingly schizophrenic. With one breath, they can declare their collective determination to pare emissions of greenhouse gases. With another, they can joyously celebrate agreements such as the one they reached on Open Skies a fortnight after the Brussels declaration, which will reportedly encourage an additional 25m people to fly across the Atlantic over the next five years, which represents a 50% increase in today’s trans-Atlantic passenger traffic.

According to the European Federation for Transport and Environment (T&E), greenhouse gas emissions from EU international aviation increased by 87% between 1990 and 2004.

There is a straightforward enough explanation for the apparent contradiction implied in governments’ commitment to supporting renewable energy (on the one hand) and to promoting environmentally hostile initiatives such as the Open Skies agreement (on the other). This is that the conundrum of climate change tells only part of the renewable energy story. The other part, which to many is far more persuasive, is that the EU and the US face a much more visible and pressing energy-related problem than melting ice-caps and depleting ozone levels, both of which are very far removed from their backyards. This is that they are shockingly dependent for so much of their energy sources on highly combustible pockets of the globe.

In the US, President Bush has been close to explicit on this topic, setting a national goal of replacing more than 75% of the US’s oil imports from the Middle East by 2025. "For the sake of our economic and national security, we must reduce our dependence on foreign sources of energy — including on the natural gas that is a source of electricity for many American homes and the crude oil that supplies gasoline for our cars," said the president in his State of the Union 2006 address.

The issue of energy security has struck an especially resonant chord in the US in the aftermath of September 11 2001, since when Washington has spent some $10bn on the development of cleaner, cheaper and more
reliable alternative energy sources.

In his 2006 State of the Union speech, Bush announced the Advanced Energy Initiative, which provides for a 22% increase in clean energy research at the Department of Energy (DoE). More specifically, it provides for $2bn to be spent on research into clean coal technology, $148m on the Solar America Initiative and $44m on wind energy research.

Those sums pale into insignificance beside those that appeared in the influential Stern Review on the Economics of Climate Change published in the UK last October, which calculated that global warming could result in costs of up to 5% of GDP per annum, and that each tonne of carbon dioxide emitted causes damage of at least $85. "But by moving forward on a low-carbon path, the global economy could eventually benefit by $2.5tr a year," says ABN Amro’s Eco Logic report. "And from an investment perspective, Stern’s report provided a tantalising insight — by 2050, markets for low-carbon technologies could be worth at least $500bn."

Capital market potential

For very obvious reasons, numbers of those kind set the pulses of equity investors racing and help to explain why a number of IPOs related to the development of renewable energy have been so voraciously absorbed. But on the debt side — be it in project finance or bond markets — the twin dynamics of climate change and energy security may not have been enough, in isolation, to excite the bankers who have been turning to renewable energy financing with increasing enthusiasm in recent years.

More impetus was needed for banks such as Germany’s Bayerische Hypo-und Vereinsbank (HVB), a member of UniCredit Group, to start exploring structures that would allow fixed income investors and project finance lenders to gain exposure to the renewables sector. The Breeze programme, launched in September 2004, provided that impetus. Bundling windfarms into portfolios provides both critical mass for justifying costs and better risk management, as Breeze has demonstrated (see the Breeze deal profile chapter on page 35 for more details).

"The Breeze story is now seven years old and dates back to our identification in 2000 and 2001 of renewable energy as a market with enormous potential," says Oliver Reisinger, managing director and global head of debt capital markets at UniCredit Group (HVB) in Munich. "I believe that to be successful in the debt capital markets arena you need to be able to identify trends early, as we did in the ABS market in 1996 with our Geldilux programme and more recently with our Preps programme for Mittelstand borrowers."

30 Apr 2007